Updated from 12:01 p.m. EDTCommerce Bancorp ( CBH), under siege the past month over its involvement in a Philadelphia municipal corruption scandal, reported a 46% jump in second-quarter profits and announced a series of steps to revive its flagging reputation. The New Jersey-based lender posted earnings of $66.2 million, or 79 cents a share, compared with $45.3 million, or 63 cents a share, in the year-ago period. The Thomson First Call consensus had the bank earning 78 cents in the quarter. The company said it expects to meet or exceed earnings expectations for the rest of the year. Total revenue at Commerce, however, came in slightly below Wall Street's expectations. Revenue in the quarter was $337 million, compared with the First Call estimate of $340 million. But investors overlooked the soft revenue numbers and were focusing more on steps the bank is taking to respond to the municipal corruption scandal. After falling 2% earlier, the stock was recently up 26 cents to $55.44. Still, the stock is down nearly 18% since two Pennsylvania bank executives were indicted in a Philadelphia municipal influence-peddling scheme two weeks ago. Federal prosecutors have charged that the two bankers were part of a criminal conspiracy to arrange special loans for a former Philadelphia official who in turn awarded lucrative bond underwriting and other banking deals to Commerce. The main action taken by bank officials in response to the scandal is a decision to exit municipal bond underwriting because of the scandal. On a post-earnings conference call, the bank said it was taking the action to eliminate any lingering questions about its municipal government work, even though prosecutors didn't implicate Commerce's bond underwriting team. "One of my most important jobs is to protect the reputation of the bank," says Commerce's Chairman and President Vernon Hill. "Despite the fact we believe our people did nothing wrong, it's obvious to us we didn't take enough steps to make sure our brand is protected."
Hill, in response to analyst questions, said the decision to get out of the municipal bond market was not prompted by any ongoing government investigation. He said Commerce is committed to establishing the "gold standard" for business dealings with local governments. Even though Commerce has worked hard to build up its municipal bond underwriting work, the move will not result in a big hit to the bank's bottom line. Bond underwriting fees account for about 1% of the bank's annual revenue. It's more likely the bank is taking the step to prevent any erosion in its fast-growing local government deposit business. The bank currently has banking relationships with about 1,000 governmental entities in four states. Government deposits account for 16% of Commerce's $23 billion in total deposits. Over the past year, the amount of money deposited by governmental entities with Commerce branches has risen by 64%. So far, Hill says he sees no sign that the corruption scandal has had any impact on the Commerce's lucrative government banking work. "I was concerned about this, but our people are writing new accounts and writing new relationships," says Hill. "If there is going to be a reaction to this, we haven't seen it. This is a non-event outside the Philly area." Meanwhile, a top criminal defense lawyer who is representing the bank said his internal investigation has found no wrongdoing by the bank, and he says he knows of no plans by government officials to pursue any charges against the bank. "The bank has not been charged with any wrongdoing, nor will it be charged with any wrongdoing," says Michael Critchley, a West Orange, N.J., attorney and a director of one of Commerce's regional banking subsidiaries. The bank also said it is hiring a Washington law firm to review it procedures and policies for dealing with government officials. A year ago, the bank stopped donating money to political candidates, after the Securities and Exchange Commission open an informal inquiry into the bank's donations.
Meanwhile, in the quarter, noninterest expenses at the bank rose 21% to $226 million. The company said much of the increase in expenses stemmed from the bank's expansion into the New York City market the past year. The fast-growing bank opened 10 new branches in the New York metropolitan area in the quarter. A weak link in the bank's revenue stream was it Commerce Capital Markets division, which was responsible for municipal bond underwriting. Total revenue in the division declined 32% to $6.6 million. Deposit charges and fees rose 36% to $52.7 million. Total deposits at the bank rose 35% to $24.1 billion. But Commerce reported feeling a squeeze from the volatility in interest rates, particularly in its investment portfolio. The bank, which invests heavily in mortgage-backed securities, took a hit in its investment portfolio as the value of those securities declined because of the shift in rates. Net income from securities gains declined 48% to $635,000. The poor return on the bank's investments reduced the bank's net interest margin by 10 basis points to 4.29%. The net interest margin is a measure of the profitability of a bank's lending operation, which generates profits by reinvesting deposits and other assets into higher-yielding investments. Not everyone was is impressed by Commerce's steps to bolster its image, or the bank's performance the past quarter. Legg Mason analyst Adam Barkstrom, a long time bear on the stock, says Commerce's decision to abandon municipal banking is merely "an attempt to avoid further investigation." He also says the bank's deposit growth is a "weak number" compared to prior quarters.